Moneyball without the ball

Posts from the ‘OceanaGold (OGC)’ Category

Portfolio Performance

Consolidation

Patience is a difficult virtue. I’ve had 3 weeks of pretty so-so performance, some stocks going up and some stocks going down and overall not much of anything happening. With the market going up seemingly every day its hard to not let that play on your mind.

But you have to have a balance of patience and impatience to do well in stocks. You need to have a healthy level of impatience so that you don’t hold onto positions for too long, but tempered with an equal dose of patience because, as I read some time ago from a cagey market veteran, you will make 80% of your gains for a year in 2-3 weeks, and figuring out which weeks those are is nearly impossible.

In the last few weeks I think I demonstrated a little bit both; witness impatience in my selling of gold stocks and of my position in Tricon Capital and patience as I held on to falling positions in MBIA, Impac Mortgage and watched YRC Worldwide and Yellow Media correct substantially from their highs. Read more

Portfolio Performance

See the end of the post for Portfolio Composition and weekly trades.

A week of Significant Gains from RDN, MTG, MBIA

The last seven days have been extremely good ones for my portfolio. This has been primarily due to the price appreciation of MGIC, Radian Group and MBIA. As regards MGIC and Radian, I have written so much about these two names, done so much work trying to understand the business (and trying to understand how other people were trying to understand the business), that it is quite rewarding to see it play out the way that it has.

It is amazing to me that MGIC has more than doubled (from a $2.40 low to a $6.10 high) during 5 days when the only notable disclosure was that the company had the ability to raise capital. Someone with an interest in market psychology should really write a piece on MGIC – you could call it the Existential Security.

I reduced my position in both Radian and MGIC by a little more than half during the early part of this week. My sales of MGIC occurred around $5.20 while those with Radian were at a little over $10. I don’t have plans on selling any more of either.

I sold the positions down because they were getting very large (particularly in the case of MGIC) and because my thesis, that these companies would be able to survive, has now played out. What is going to drive the stocks going forward is the long-term potential of the mortgage insurance business and how well each company can capitalize on it. Read more

David Tepper is a very successful hedge fund manager who, in the fall of 2010, went on CNBC and explained, with a simplicity that the market loves, why you had to own stocks.

“Either the economy is going to get better by itself in the next three months…What assets are going to do well? Stocks are going to do well, bonds won’t do so well, gold won’t do as well,” he said. “Or the economy is not going to pick up in the next three months and the Fed is going to come in with QE.

“Then what’s going to do well? Everything, in the near term (though) not bonds…So let’s see what I got—I got two different situations: One, the economy gets better by itself, stocks are better, bonds are worse, gold is probably worse. The other situation is the fed comes in with money.”

I am coining the phrase “David Tepper moment” to refer to a time when what appears to be the obvious thing to do is the right thing to do. A moment when the correct action is “just that simple”.

I first bought OceanaGold at $1.80 at the end of May. I originally bought it strictly as a trade.

The price subsequently moved up and I added to the position twice, first at $1.98, and later at $2.14. You’ve heard me say it before – do more of what’s working and less of what doesn’t.

Well sometimes that backfires. When gold got pummeled in mid-June, my position in OceanaGold got hammered back below $2. It happened so quickly that I did not have time to react, and I ended up losing all of my profits and a little more on top of that.

Such is the difficulty of owning a trading stock with a secular thesis.

From that time until this week OceanaGold didn’t do much of anything. It sat in the 1.80’s, would briefly rise into the 1.90’s but never for more than a few days. I held, not wanting to sell near the low without justification and not having the time to do the work I needed to do to get that conviction. But over the weekend (last weekend), I stepped through their recent reports and presentations, made a few runs at their numbers, and I decided I might just stick this one out.

Two reasons to stick it out

OceanaGold had a terrible first quarter. Costs were up and above $1000 per ounce. Production was down over 20%. The mines that it is currently operating in New Zealand have been struggling with costs pressures for some time now. But the first quarter was particularly bad.

Part of the bet I was making when I bought OceanaGold at $1.80 was that the first quarter was an aberration. And, having stepped through that first quarter in some detail now, while I don’t expect costs to drop back to pre-2011 levels, I do find it plausible they they fall back into the low $900’s an ounce. Similarly, production could easily return to 60,000 ounces plus per quarter. The progress made in its second quarter earnings release on Thursday suggests this just may be in the process of playing out (note that I wrote most of this post before the Q2 earnings were released so I won’t be talking in detail about them).

The other part of the bet on OceanaGold is the expectation that the company will be reevaluated for the better once the Didipio project begins to produce substantial ounces. Because of the by-product credits from copper production, Didipio will produce gold at negative cash costs for the first couple of years.

Let”s step through this two-pronged thesis in more detail.

Production Costs should come down

Productions costs on a per ounce basis were bad in the first quarter and they have been rising for some time now.

When you look closely at the rise in production costs over the last number of quarters you can attribute the rise to essentially 3 factors:

Rise of the New Zealand Dollar

Fewer Ounces produced

Changes in the amount of the total costs that can be amortized as pre-stripping

I was quite astonished by just how much of the company’s costs increases could be attributed to these 3 factors. In fact all of it. If you look at the total operating costs in New Zealand dollars over the last few years, including costs that were amortized as pre-stripping, they are remarkably flat.

Note that I did this work before the Q2 earnings release so it is not included in the chart.

What the chart illustrates is that this a story of a company dealing with cost pressures due to their local currency appreciating and the natural evolution of the mine plan with changing grades and changing strip ratio.

Looking ahead, I don’t expect much further appreciation of the New Zealand dollar. With a global slowdown at hand, it seems reasonable to expect the NZD to weaken against the US dollar. The fewer ounces produced has been a function of various issues that occurred in Q1. There were issues at the Macraes open pit, at Fraser underground and at Reefton. The good news is that it appears the company made progress on all fronts in Q2 (production in Q2 was 55,000 ounces versus a little over 50,000 ounces in Q1) and expects production back to normal (which would be around 60,000 ounces per quarter) by Q3. As the above chart of total costs indicates, costs per ounce are primarily a function of ounces produced. A return to 60,000 ounces per quarter would show a drop in costs to about $900 per ounce.

Didipio

The other part of the bet on OceanaGold is the expectation that the company will be re-evaluated once the Didipio project begins to produce ounces. Because of the by-product credits from copper production, Didipio will produce gold at negative cash costs for the first few years and over the life of the mine cash costs will be substantially lower than the existing New Zealand operations. This is going to dramatically bring down corporate cash costs. I expect that analysts will be more inclined to give OceanaGold an average mid-tier multiple once their cash costs settle in-line with other mid-tier producers.

In the table below I have estimated the impact of Didipio on corporate cash costs in 2013 and 2014.

By way of analogy, consider Agnico Eagle. In the first quarter (again I wrote most of this post before second quarter numbers were out) Agnico recorded cash costs of $594/oz. Agnico’s largest mine in terms of gold production for the quarter was Meadowbank, which produced 79,000 ounces for the quarter. Meadowbank produced those ounces at costs of $1,020 per ounce. Taken alone, Meadowbank would be a high cost producer and receive a low multiple. But Agnico offsets the high costs at Meadowbank with costs of $278/oz at Pinos Altos and $216/oz at LaRonde.

Looking at the latest BMO report on Agnico Eagle, I note that the company gets a cash flow multiple of 10x. This compares to OceanaGold at 4x cash flow excluding Didipio and 2x cash flow including it.

Clearly, there is room for an upside re-evaluation.

Gold Price

The last factor that is going to determine the future direction of the share price is the price of gold. I have some thoughts there, but I am not going to go into them in detail here. Suffice it to say that this is the piece of the puzzle that I am least confident about. Its unfortunate that I am so uncertain about whether gold will continue to rise or whether it will stall out and potentially fall. Because given the other factors at hand, OceanaGold would seem to be a good place to build a large position at today’s prices.

Portfolio Performance

Portfolio Composition

Staying Smallish

I broke down and bought a position in MBIA at the end of the week last week. I had mentioned in my post on the company last week on the company that I had planned to wait for lower prices. I didn’t. Over the past couple of weeks I have read through all the conference calls and the latest quarterly’s and the more I read about the court cases between MBIA and Bank of America, the more that I think that if I were Bank of America, I would be looking to settle before any further rulings come out. With the first ruling (on the transformation of MBIA into two distinct entities that is being opposed by Bank of America and Societe Generale) due out in August I decided that I was willing to take the risk that the stock falls back to the $8-9 range in return for the potential reward if that settlement comes out. I haven’t bought a lot of the stock, just enough to feel like I am participating. If it does fall back to $8 I would buy more.

I also started a very small position in JC Penney. I could see it getting significantly larger. I plan to put out a very detailed post at some point in the near future (probably next weekend) but to briefly summarize, I am fairly comfortable that the problems that JC Penney has will be worked through and that in time the stock will trade much higher. What I am less comfortable with is whether the stock can trade much lower first. I have been reading everything I can find about the company and I cannot believe how hated it, and its CEO Ron Johnson, have become. Moreover, there seems to be a consensus that because the pricing strategy change that was announce in Q1 was not immediately successful, it should be concluded that the management team is a bunch of bumbling idiots who got lucky with Apple and will suffer a fate worse than death with JCP. Yet as Johnson said on the first quarter conference call, they are trying to turn the titanic into a bunch of little speed boats, and that is going to take time. The turnaround that Johnson is attempting will not miraculously happen in the next month or two, so there is room for further disappointing numbers. I would love to see the stock fall to below $20, at which time I would load up. I actually expect that it will, I mean there isn’t an immediate catalyst to the upside, and the negativity is so strong that its taking on a life of its own.

I haven’t added to my position in gold stocks, but I have changed it up a bit. Out is Canaco Resources, and lightened up on is Atna Resources. In are Esperanza Resources and OceanaGold.

In the case of Esperanza, they are a company with a low cost development project (~$100M capex) and low expected operating costs (~$450-500/oz) that has been beaten up because they did a share offering that was over-subscribed and that diluted the share base.

I’m looking at the offering from the other side. That is: they managed to do a share offering that was oversubscribed in this environment. I think there are probably some games going on with the stock post-offering, and I suspect that is why we are able to get it as cheap as we are. The only potential negative I have heard with Esperanza is that apparently because the offering was oversubscribed there were some unhappy subscribers who didn’t get all their shares. Some have said that this could lead to lawsuits. I admit I don’t fully understand the legal impacts of this, but it would seem to me that the ultimate responsibility would lie with the sponsoring bank and not Esperanza.

OceanaGold is a bit of a flyer. I bought the stock at $1.80, I sold some, but not enough, at $2.15 to book some profits, and now its back to almost where I started at $1.90. I placed this “bet” on OceanaGold based on the following expectations:

The gold price is about to rise

Didipio is going to be added into 2013 estimates shortly at which point the corporate cash costs of OGC will drop to sub $800 per ounce.

The falling NZD and falling oil prices are going to start working in OGC’s favor rather than against it, as has bee the case for the last couple of years

The problem with OceanaGold is that it is a trading stock and trading stocks can go up and down like a yo-yo while you wait for what you think should happen to play out. Its excruciating and it’s a reason to only have a small amount of your overall capital invested in such names. I have a small amount of capital invested in OceanaGold right now and I would be hesitant to add more. We’ll see how it plays out.

Next week marks Week 52 since I started tracking my portfolio on-line. I will try to publish a short wrap-up of the year.

Every quarter I spend an evening or two going through the reports of the 15 or so gold stocks that I follow and updating a spreadsheet that I use to track their progress and compare them against each other.

I do not use the spreadsheet in the way a strict value investor might. I do not search out and buy the cheapest gold stock of the bunch on a cash flow metric or per ounce metric. I do look for value, but I also look for growth. The stock market tends to treat gold producers in much the same way they treat any other business: stocks with superior growth potential get bid up to higher valuations. On the other side of the coin, you can sit on what appears to be an undervalued producer for a long time if that producer has a poor pipeline of projects or has no prospects to produce near term incremental ounces.

I did exactly that recently with Aurizon Mines. I was attracted to the value, it was cheap compared to its peers, it had a lot of cash on its balance sheet and no debt, and they have a well run and profitable operation at Casa Berardi. Yet Aurizon does not have a strong growth pipelne. Its closest to completion project is an open pit prospect called Joanna which, while it could one day produce a lot of gold, has been stuck in the feasibility stage for more than a few years and has the worry of requiring a large capital outlay out front. When you add that to a number of fairly early stage exploration projects the result is a company without the near term potential to grow ounces significantly. I sat on Aurizon for almost 6 months based on its value story and the stock went nowhere.

At the other end of the spectrum is a company like Argonaut Gold. I owned Argonaut Gold for a while last fall but sold out way too soon. I sold because I saw the stock was priced dearly compared to many of its peers. However I failed to adequately account for the growth opportunities. It was a silly oversight; I had originally bought the stock because of the low capital cost heap leach projects that they could bring to market quickly. Somehow though I forgot about this, got caught up in the valuation and that led me to sell too early. The stock has since doubled to $10 before pulling back in the recent carnage that has brought all gold stocks to their knees.

When I was looking for gold producing companies a couple of weeks ago I was on the lookout for the next Argonaut Gold. Unfortunately I have not been able to find them (if you have some ideas, please drop me a note). In my opinion the closest comparison to Argonaut in terms of near term low capital cost growth potential is Atna Resources. Atna has a legitimate chance of increasing their gold production from 40,000 to over 150,000 ounces in the next couple of years. What makes Atna an imperfect comparison is that most of its projects hover around the cash cost level of $900 per oz, which is on the high side of the cash cost scale, whereas Argonaut has been able to achieve the double whammy of low cash cost low capital cost growth.

A second producer that I have bought (back) recently is OceanaGold. I have had good luck with buying OceanaGold when the market hates them and selling when the market starts to show some love. This time around I may hold on for a bit longer. OceanaGold has typically been one of the cheapest gold stocks on cash flow metrics. This is because, in part, they have struggled with costs and production at their existing mines. However, their soon to be producing mine in the Philippines (Didipio) will bring about some growth to the company, and perhaps more importantly, it will reduce the corporate cash flow numbers substantially.

One thing that got me interested in OceanaGold again was my research of Agnico-Eagle (which by the way is the third producer I own right now). While Agnico-Eagle has had some difficulties with the closure of their GOldex mine, they remain one of the best growth stories in the industry and I believe the market will come around to forgetting about Goldex and recognizing this once again. Agnico-Eagle owns 5 operating mines. Of those five, one mine, Meadowbank, produces about 1/3 of the production. At the corporate level, Agnico-Eagle has reasonably low cash costs. They were $594 per oz in the first quarter. However Meadowbank, the largest mine, has cash costs over $1000 per oz. On its own its a marginal mine that produces a large number of ounces. Together with the other low cost assets that Agnico has, it receives a much higher valuation than it would on its own.

I liken this situation to the one at OceanaGold. At OceanaGold, the corporate level cash costs should come down fairly substantially with the introduction of gold production from Didipio. Didipio will produce a lot of copper in addition to its gold, and this will make the cash costs of the project appear to be quite low. The cash costs of OceanaGold will not get down to the level of a company like Agnico-Eagle (the high cost mines at Oceana will continue to make up too much of the production) but I do not see it as unreasonable to think they will drop into the high $700 range. My bet on OceanaGold is that when production begins at Didipio, analysts will begin to revalue the company on the basis of a mid-cost producer rather than a high cost one, and that should provide for some upside in the stock.

I updated the spreadsheet below over the weekend. I did not update it during this week with stock prices for each stock tabled. The prices are as of Friday’s close. There has been so much movement in many of these gold names in the last couple days that the prices are already somewhat outdated.

My hope with gold and gold stocks is that this move is for real. What I think we need to have for this move to be real is action out of Europe that brings gold back into the system. I wrote this weekend about how, in general, the turmoil in Europe should cause weakness in paper currencies and lead to strength in gold. On Sunday Donald Coxe was interviewed on King World News and decribed a scenario whereby gold would be used along with a value added tax as colateral for euro-bonds on ther periphery. While I am a bit fuzzy on what the details of such a bond might be, I believe that conceptually this is the sort of event that has the potential to create a great rally. On the other hand my enthusiasm is tempered that if nothing is done in Europe, and if the Federal Reserve does indeed decide that QE is not working (I don’t think its nearly as clear as others do that the Fed will mindlessly embark on further quantitive easing. The Fed is, after all, a data centric institution, and if it appears that the benefits of QE are not what was anticipated, and I believe that has been the case, they may decide that a third installment is not beneficial).

I probably seem crazy to be chasing gold stocks in and out like I have. I’ve been wrong over and over. But I’m not losing much money doing it because I keep selling before it gets out of hand and I know from experience that when they move up they will move so fast and you have to be ready for it. What we saw in January was nothing, in the past I have had stocks triple in a month when they move. They can move so fast in such a short time its crazy.

At the time I was getting mucho frustrated and more than a little despondent about the reaction of the gold shares. Gold stocks were being sold indiscriminantly. Even though the price of gold was holding up rather well, the stocks of the companies that produced gold were being trashed. For those companies that only explore for gold, the thrashing was even worse.

I follow a few rules for investing. One of those rules is to never add to a losing position. Another rule is to scale out of stocks that are not doing what I think they should do. A third is to mind the intraday reversals. The consequence of following these rules with the gold stocks is that I have bought in and been bounced out of these companies a few times over the last couple of months. I have owned Aurizon Mines, Lydian International, Golden Minerals, Barrick Gold, Newmont Mining. I now own OceanaGold and Agnico Eagle in addition to a large position in Atna Resources and Gold Standard Ventures and (sigh) Canaco that I have held throughout.

While my furstration has left me tempted to walk away from gold completely, the reasons I didn’t give up was three-fold.

First, I just can’t get past the conclusion that the underlying condition of the world right now should be favourable to owning gold and gold stocks. World economies are weak and weakening, and along with it so are the inputs to gold mining. Interest rates are near zero, which means that alternative paper investments (bonds) do not have their usual yield advantage over gold. Central bankers have shown a bias towards printing money to avoid lengthy recessions and prevent a destabilizing banking crisis. Debt in the developed world is still high historically.

In this environment the perception of gold should be favorable, and its perceived value in units of paper currency should increase. The truth is that the price of gold is based on perception. I think that is why you have such wild fluctuations in both gold and gold stocks. Its because gold has no value apart from the value that man has historically perceived in it. And its difficult to nail that down. I am starting to get tired of the term, but to say that gold is the existential commodity is really not very far off.

Second, the gold stocks are cheap. They are trading at multiples that I didn’t think gold stocks would ever see. Newmont and Barrick have been down as low as 8x earnings.

As well, with economies slowing, I think we are finally going to see the benefit to gold mining from lower energy, labour and capital costs. It has become so common for a gold company to report escalating operating costs, or increase the estimate of capital costs to build a new mine, that it is now almost expected by the market. But these costs do not rise in a vacuum. They rise because energy, copper, steel and labor prices have been rising. As economies around the world slow, this effect is reversing. We should begin to see that effect in the second quarter numbers, where cash costs beging to show decline.

The third reason that I didn’t give up on gold stocks is because I know that when they turn, they turn hard. I have been on the outside looking in before when this turned happened. I have learned that it is extremely difficult to buy a stock when it has risen a significant amount in a short period of time. In the same manner that gold stocks have fallen day after day for months, with seemingly no support, they can also do the opposite, and rise very quickly and dramatically in a short period of time. The only way I have found to take advantage of this, given my own constitution, is to be in before the rise begins

In my update last weekend I noted that I had bought a position in OceanaGold and in Newmont. This week I added to OceanaGold and initiated a new position in Agnico Eagle:

I finally had timing on my side with these purchases. Yesterday gold and gold stocks took off after the dismal employment report. I was pleased that in my review of the carnage after the market closed, that because of the outperformance of the gold stocks, I was actually up a reasonable amount in my portfolio. This despite the fact that Newcastle and PHH got clocked pretty hard, and the oil stocks I own, Mart, Equal and Pan Orient succumbed to the pressure of falling oil prices and oil stock malaise.

Is what happened yesterday the sort of rise I have been waiting for? While it feels like it to me, its impossible to say. What I do know is that the underlying conditions in Europe have been supportive of a rising gold price for some time now. To say that gold must fall with Europe (presumably because of margin calls) can only be taken so far. There are only so many margin calls that can be made before no one is on margin any more.

I have listened to twice and would highly recommend this interview given by Donald Coxe on the James Pulplava Financial Sense news hour. He said the following:

With the great gold mines they have 20 or 30 or 40 years of reserves and you are getting it for free. Gold prices voer the longer term are bound to go up. You don’t have to pay via a call option to own gold in the future, you are getting it for free with these great gold companies. This is an amazing investment opportunity. All you have to say is, it won’t be an amazing investment opportunity if no governments are running deficits, if the money supply growth is not above 3.5%, in which case you should not own gold. If that is what you believe is likely then you should not own gold. On the other hand if you believe that is about as likely as an invasion of spaceships from some remote part of the milky way, which is my view, then you should be owning gold. And the best way to do that is by owning the gold mines.

Before today the concern about gold, I think, was that the American economy was on the cusp of a robust recovery and quite truthfully, if the US can grow sustainably, it can solve a lot of its problems. What the job report yesterday suggested was that the recovery is not robust. It needs to be understood that there is the possibility that the US just continues to muddle. The job report today does not mean that the US is collapsing, as the stock market and bond market seemed to suggest it was.

The bottom line, I think is that gold is an asset negatively correlated asset to paper currencies, and as paper currencies lose their perceived value, gold must benefit. Gold miners remain a very cheap way to take advantage of this idea.